First, this study examines the association between components of CEO compensation and the firm's capital structure, governance over the board, and the firm's economic characteristics. Second, this study also examines whether more optimal compensation links to firm characteristics are associated with positive outcomes for the firm. The motivation behind this study stems from the ongoing scrutiny and criticism regarding the justification of CEO compensation relative to firm performance. It is timely and relevant to analyse compensation issues as the regulators in the United States and other countries devise rules and regulations to curb 'excessive' compensation. This study finds that measures of governance over the board, capital structure and the firm's economic determinants, explain a significant amount of the level and structure of CEO compensation.
The signs of the coefficients on capital structure suggest that debt contracts can substitute for compensation contracts to mitigate agency costs. The results further suggest that firms with higher levels of private debt allocate higher proportions of restricted stock grants and lower proportions of stock options, consistent with private debt interacting with compensation contracting to mitigate agency conflicts for the firm as a whole. The results also suggest that the board characteristics that have direct links to the CEO power (e.g. CEO's influence over the director nomination, CEO tenure and CEO stock ownership) are the key determinants of the structure of the CEO's compensation package. This study also finds that deviations from optimal total compensation, optimal salary component, and optimal bonus component are associated with firm performance and shareholders' return. Overall, the results suggest that firms with weaker corporate governance put in place compensation that allocate higher proportions of cash-based compensation and lower proportions of stock-based compensation.